This link leads you to a list of debtor protection and creditors rights, organized by states. Most of this information was found and can be verified HERE. Please understand that this information is subject to change over time.

When considering a debt workout, a modification, or a restructuring of any kind, a guarantor and business owner should be aware what state laws and protections may be in place to protect them from collection from creditors. Likewise, they should know what right the creditors have to collect on their personal asset base. This chart is an attempt to provide some of the information necessary to understand these conditions.

Not knowing this information could lead to guarantor to lose assets that they thought were protected. For example, some people are under the assumption that all retirement accounts are protected from collection. However, if a defaulted guarantor made that mistake about their IRA in the state of California, they could lose all of their retirement savings. On the other hand, a guarantor in Texas who earns a W2 wage should be aware that wage garnishment is not possible in that state and therefore the bank’s and SBA’s opinion of the person’s future ability to repay should decrease significantly. Before entering into a workout or any other negotiation with a creditor, it is highly advised that you have your personal balance sheet reviewed for potential exposure

What is the difference between a secured loan workout with traditional commercial financing one done with SBA financing?

Simply put, the involvement of the SBA. A traditional commercial loan is based solely on the value of the business collateral and the perceived ability of the guarantors to repay the loan. There is no SBA guaranty backing the loan in the event that the business fails and needs to be liquidated. What this means is that the risk is shouldered by the bank rather than the SBA.

What does this mean for distressed borrowers with traditional commercial financing? Can they still do a workout?

Business owners with traditional commercial financing can still go through a workout, a modification, or a reorganization. However, because the bank does stand to lose more than they would under a SBA financing relationship, it is important that a business owner be aware of the Pros and Cons of of doing workouts with these types of lenders.

PROS:
– Timing: Because all decisions can happen at the bank level without the need for involvement from the SBA, a workout or settlement can conclude much more quickly than the typical SBA loan.
– Flexibility: A bank without a SBA guaranty may allow more temporary payment relief in the forms of forbearance or modifications than a SBA loan would because they have no fear of losing their guaranty and having every incentive to keep the loan out of liquidation.

CONS:
– Valuation of Assets: Under a liquidation scenario a bank with no SBA guaranty has an incentive to seek out a higher value for the assets that act as underlying collateral for their loan. While the intension of paying down the deficiency balance to a higher extent is good, the outcome many times is that the opinion of value of the business assets makes them unmarketable to third parties.
– Personal Guaranty Settlements: Without the SBA guaranty in place to absorb much of their losses, the bank will likely look for a larger amount in order to settle the guarantor’s personal obligation. Without the SBA involvement, the lender does not have to follow SBA procedures for reviewing Offers in Compromise. They instead get to review any settlement through their own set of criteria. This criteria for ability to repay will likely result in a higher settlement when compared to a SBA settlement because it will include things such as measuring the amount of wages that could be garnished from the guarantor over their projected remaining working lifespan.

Understanding these pros and cons can better help the business owner set and maintain the correct expectations. While their personal guaranty settlement may cost them more, the time and the flexibility the bank will offer will often remove the need to conduct a personal guaranty settlement in the first place. In the event where the personal guaranty is addressed, the lenders still have an incentive to settle over receiving a discharge in bankruptcy, so their calculations are often not so high that settlement is impossible. They are however, typically more costly than loans that are accompanied with a SBA Guaranty.

To understand if a workout or modification is the right thing for your business, you should first do an assessment of the value of the business assets and the guarantor’s personal assets. With that in hand, you should seek out professional advice as to whether either alternative is feasible given your circumstances.

If you used SBA financing in order to purchase your business in the last 10 years, there is a reasonable likelihood that the SBA required that the seller finance a small portion of the transaction. This means you did not have to bring that cash or financing to the closing table and instead the previous owner provides the financing and takes a second position note secured behind the SBA note. The SBA does this to offload some of the risk to the seller.

When a SBA borrower enters into default on their SBA payments, it is assumed that the business is also in default on the payments owed to the previous owner. In fact, many SBA lenders will require that the previous owner sign a Standby Agreement, which dictates that is the borrower were to go into default on the SBA loan, or if the SBA lender were to modify or forbear payments in any way, that the Seller and previous owner would agree to standby and cease collecting payments until the time the the SBA debt is being paid as agreed again. These agreements make these seller financed notes high risk and often times put the previous owners in a difficult situation. These people are traditionally not associated with large lending institutions that have large loan portfolios where writing off a debt is not the end of the world. Many of these people had debt on their business when they sold it and so therefore did not receive much of the sale proceeds when they sold their business. Many of them depend on that income and see this portion of the purchase price as their only return on investment for creating and selling the business. Simply put, these people are not banks and treating them as such is not advised in a workout scenario.

That being said, when the SBA lending banks are taking large discounts to the amount owed to them, the seller financier must understand that it is not appropriate for him or her to be compensated in full, and that is more appropriate that they accept a settlement proportionate to that of the SBA settlement. If appropriate review of the seller financed note is completed and a high level of communication is maintained with the previous owner, the difficult end result can be met with acceptance instead of resistance. Having been a business owner, many of these people understand the ups and downs of owning a business. They further understand what has happened in the economy recently and what affect it has had across all industries. A workout plan needs to include fully disclosing the financial condition of the business and the guarantor, the goals and objectives to be met with the SBA creditor, and the potential outcomes. If the previous owner understands these things, they will have little choice but to agree to settle amicably. Alternatively, if your workout plan does not include a plan for the previous owner, you risk the threat of legal challenges that could greatly delay the workout and settlement process, not to mention add costly attorney fees to the process.

ONE FINAL WORD ON SELLER FINANCING: If the previous owner of your business offered seller financing at closing of the business purchase and is now also your landlord, you should seek professional help before attempting to negotiate a settlement, workout, or reorganization. A landlord/seller financier has abilities to interrupt business operations a number of ways that other creditors do not. Couple that with the fact that they will be emotionally involved in your success or failure and it can be a dangerous combination. While your seller financing and your lease agreement are two separate financial obligations, you must understand that if you are in default on one obligation, that this individual will have a financial incentive to call you under default on the other agreement until all default is cured. Workouts with landlord/seller financiers need to be well planned and executed. If you are in this situation and need help, you should seek professional representation.

What happens when a SBA borrower and guarantor go into default on a loan and have no plan? What happens if they ignore the collection calls and notices just hoping they go away, or better yet, assume that the bank will just write off the debt and not come after them? What happens after the business closes but the guarantor does not complete an offer in compromise nor file bankruptcy? The answer is that the loan is then entered into the US Treasury Offset Program where collections actions continue indefinitely.

What is different about a SBA loan while it is in the Treasury Offset Program is that the Offer in Compromise program that was once in play with the SBA is no longer there. The Treasury collects on many types of debt ranging from defaulted tax debts, federally back mortgages, SBA loans, and many more. They take the same approach to collection regardless of the debt. This process is much more harsh than that of the SBA. For example, when calculating a guarantor’s future earning potential, the Treasury measures the amount of wages that could be garnished over the course of that person’s working life expectancy rather than 3-5 years like the SBA does. This broad approach results in much higher settlement criteria, not to mention a very long settlement process.

Typically the benchmarks for collection with the Treasury Offset Program are to try and collect 50% or more of the outstanding balance. Keep in mind that after the file is transferred to Treasury, additional fees and interest are applied to the balance which can sometimes increase the balance owed by as much as 20%. While our office have seen settlements as low as 33% of the outstanding balance, those results are few and far between. Additionally, the process of settling with Treasury is so lengthy, in certain cases being in excess of 2 years, that many guarantors opt to file bankruptcy just as a means of concluding the issue quickly

The Treasury will also take steps such as offsetting or garnishing tax returns, garnishing social security income, or removing any other sort of financial federal aid. Seeing as how these funds come from the federal government, they have a right to offset the amount you owe them with these proceeds until the loan is satisfied, a settlement is reached, or a bankruptcy is filed.

All in all a SBA borrower or guarantor in default should take every step necessary to avoid their file from entering the Treasury Offset Program. While being in Treasury does not eliminate the possibility of a settlement, it will undoubtedly increase the time and costs associated with settling. Work with the SBA lender to make sure the underlying collateral of the loan is liquidated in a timely manor and then present an Offer in Compromise as soon as they are willing to accept it. Many defaulted guarantors think they should wait several months, try to increase their net worth in order to put forth a reasonable offer. While putting forth an offer substantial enough to be considered is important, defaulted borrowers simply do not have the time to let their personal balance sheets to recover. Put forth the best offer based on your financial condition at the time and preserve your opportunity to work directly with your bank and the SBA to settle.

If you would like to find out more about the US Treasury Offset Program, please click HERE. To learn more about the Offer in Compromise program, please click HERE

Sometimes a business’ secured debt is not the problem. Their secured loans are at reasonable interest rates with reasonable debt service. What causes them pain and distress are their unsecured creditors. Unsecured creditors come in a variety of forms which include vendors, utilities, lines of credit, or investor notes. These types of obligations are not secured by any specific piece or group of collateral and often come with higher interest and shorter repayment terms. For example a debt owed to a vendor/supplier is expected to be paid in full in 30-60 days, sometimes not allowing the business enough time to experience it’s own revenue from the products received from the vendor and in essence inverts the cash flow of the business by making the business owner pay for goods before revenue is realized. When overall revenue is reduced these situations can quickly get out of hand. Vendors and suppliers shut the business off from future shipments which can result in the business not being able to operate and provide products to customers. Creditors holding lines of credit shut off any further credit and demand the line paid in full. Utility companies shut off necessary utilities such as water or power which renders the business useless. If distressed business owners prioritize their secured debt over their unsecured debt in times of reduced revenue, they run the risk of becoming non-operational.

However an unsecured debt workout can solve these problems for business owners. Unsecured debt workouts have a variety of results. It often includes a reorganization of the business to strip the obligations of unsecured debt from the business operation but can take on many forms. Because of the unsecured nature of these types of obligations and a lack of involvement from a governing body such as the SBA, the debt workout has a wide range of flexibility. These unsecured debts can be settled for short of whats owed, amortized over long periods of time to meet the needs of the business cash flow, or they can written off without consideration.

Some things to consider when doing a unsecured workout are:

– Will the secured creditors participate in a reorganization if necessary? Reorganization of the business is often part of an unsecured debt workout. Before entering into negotiations, a business owner should communicate their plan with their secured creditors in order to assure their cooperation in the transaction. Not doing so could result in default under the secured loans.

– Determine which vendors/creditors are crucial to business operations: Unsecured debt workouts often require multiple approaches working simultaneously with multiple creditors. A business owner should know which of his vendors or suppliers are crucial to business operation. These creditors should be prioritized and an agreement should be established before applying any company resources to any other obligations.

– Determine which vendors/creditors are replaceable: Understanding which vendors or suppliers can be replaced easily within the market by a competitor opens many options for a distressed business owner. Establishing a new vendor relationship with a different vendor before entering into a negotiation with a current vendor/creditor allows the business owner the piece of mind that the creditor will not be able to impact the performance of the company.

– Identify debts secured by a personal guaranty: Just because a debt is not secured by the business assets does not mean it is not secured by a personal guaranty from the business owner. Identifying which debts are personally guaranteed allows the business owner to calculate his or her personal exposure before entering into a workout and negotiation.

Building a workout plan that includes these four areas of interest will offer a distressed company a complete turnaround plan. Left alone, high amount of unsecured debt can trigger business cessation or default with the secured creditors. In order to avoid it, business owners must analyze their situation and create a strategy that will result in debt relief that the business will ultimately require.

An SBA workout is like any other debt workout. The goal of the workout is to remove as much of the burden of the debt load and debt service as possible from both the business and the guarantor while preserving the business opportunity (when possible). Workouts take many forms and there is no cookie-cutter way to effectively conduct a workout. Workouts do require a level of risk and there are many things that need to be considered before entering into a workout. Some circumstances worth considering are:

– Liquidated value of business assets: What are the business asset worth and how much of the debt would be covered by liquidating them for the benefit of the SBA creditor?– Current and projected business performance: How much cash flow can the business afford to service debt with? Can the owner afford any more cuts? Is revenue climbing or falling? Do projections show improvement in the short-term? Is loan modification possible given the financial capability of the business?– Current industry trends: Is the industry expanding or is the market constricting? Are their external forces affecting business operations?– Size of the SBA obligation: Is the loan so large and under collateralized that it scares away most potential buyers or investors? Is the loan so small that the debtor will be left personally responsibly for all shortfall liability?– Personal net worth of guarantors: Does the guarantors show a large amount of equity in their home? Do they have other liquid and unprotected assets?
– Additional collateral for SBA loan: Did the guarantors pledge additional collateral for the loan? Is there a lien on real property? Is there cross-collateralization with another operating business?

Understanding these points of interest will help a defaulted borrower calculate the true costs of a SBA secured debt workout. The results from a successful debt workout are pretty incredible. Guarantors settle their outstanding obligations, businesses survive and are in some cases restructured in order to preserve jobs and opportunity, and the banks satisfy their SBA obligations and receive their SBA guaranty. However, workouts have costs and some businesses are not financially strong enough to support the requirements of a workout. A full assessment and valuation of all relevant business factors should be done before any small business owner enters into a workout with a SBA lending bank.

Because the bank has its SBA guaranty to protect, lenders do not often have the same level of flexibility when it comes to modifying or altering SBA loans. Therefore they follow a strict path of liquidation which is regulated by the SBA Standard Operating Procedures for loans in default. This path traditionally means litigation, foreclosure, and auction of the business followed by a pursuit of the guarantor to collect the deficiency. Workouts offer alternatives to both lenders and debtors that meet all of the SBA requirements but do not require litigation, foreclosure, or bankruptcy. Understanding how to satisfy the SBA requirements is what’s key to success.

Overall a SBA debt workout is a business strategy that is meant to preserve the business opportunity while removing debt from both the business operation and the guarantors. Defaulted SBA borrowers who do not qualify for loan modification are candidates for a workout. However the costs associated with a workout vastly vary based on the circumstances surrounding each loan, each business and each guarantor.

The Small Business Administration (SBA) is a federal organization whose mission is, “…to aid, counsel, assist and protect the interests of small business concerns, to preserve free competitive enterprise and to maintain and strengthen the overall economy of our nation,” (http://www.sba.gov/about-sba/what_we_do/mission). The majority of their work is focused on providing loans and guarantees to small businesses in order to support their overall mission. Most loans are issued through participating SBA lending banks where the bank loans the business money and the SBA guarantees a large portion of the note (ranging from 50-90%). These guarantees vastly reduce the risk to the bank because even if the loan fails, the SBA guaranty will assure they do not experience large losses. This shift of risk away from the banks opens credit to small businesses that they would otherwise not qualify for, creating opportunities for small businesses to grow, hire, expand and succeed.

However, what happens when one of these businesses fails? Revenues are down since the beginning of the recession and have not fully recovered for many industries. Many feel when they cannot pay their SBA loan that bankruptcy is their only option. However, it is not. The SBA has a program in place that allows defaulted guarantors to settle their obligations for far short of what is owed on their loans. The process is called the Offer in Compromise program and is essentially a bankruptcy alternative. The SBA has a lot of information on their website and distributes the required forms for an Offer in Compromise (www.sba.gov).

However, after reading all information available and reviewing the required forms, many borrowers still don’t know how much to offer. Essentially the question that goes unanswered is: How much is the right amount to offer in or for the SBA to accept an Offer in Compromise?

The answer to that is somewhat addressed in the SBA Standard Operating Procedures, “The compromise amount must bear a reasonable relationship to the amount that could be recovered in a reasonable amount of time through enforced collection proceedings and must be sufficient to protect the integrity of the SBA loan program,” (http://www.sba.gov/about-sba/sba_performance/policy_regulations/standard_operating_procedures). Yet this answer leaves a lot open to interpretation and leave many still scratching their heads.

To answer the question, first a defaulted guarantor must understand the following things: an Offer in Compromise is a privilege, not a right, and, that any fraud or misrepresentation throughout any part of the loan process will result in disqualification from the Offer in Compromise program. This means that communication and cooperation are essential in maintaining your ability to settle. The bank must believe you are acting in good faith to put forth your best offer per the SBA guidelines for forced collection. Once this type of relationship is established, you must present an offer with all required supporting documentation that addresses the following points:

1. The forced liquidated value of the assets of the guarantor

A guarantor must present an offer equal to or greater than the liquidated value of their personal assets. To determine liquidated value, a guarantor must first examine their personal balance sheet and remove any assets that are protected from collection such as homesteaded properties or protected retirement assets (see post on State by State Protection for more information). From there any remaining assets must be appraised or valued at their liquidated value less any debt owed against the assets. For example if you own a rental property whose liquidated value is $300,000 and you owe a mortgage of $250,000 on that property, the forced liquidated value would be $50,000 for that asset ($300,000 liquidated value – $250,000 mortgage). Finding liquidated valuations often requires the assistance of certified appraiser.

2. Future earning potential of guarantor – ability to garnish wages

Above and beyond a guarantor’s liquidated asset base, an acceptable offer must compensate for the earning potential of the guarantor. The SBA will likely want to examine the current earning statements of a guarantor along with at least two years worth of tax returns in order to be able to calculate the guarantors ability to earn. The SBA and bank will then compare this to the state laws regarding wage garnishment to calculate the borrowers future ability to repay the loan (see post on State by State Protection for more information). Other factors are also included in this calculation, such as age and health conditions which may limit a person’s current or future ability to remain gainfully employed.

3. The size of the deficiency balance

While the validity of an offer is based more on the previous two points, the size of the deficiency does come in to play. The offer must not jeopardize the integrity of the program as dictated by the standard operating procedures. This means that certain offers may be considered too low simply because the balance is large. For example, a $15,000 Offer in Compromise may be a perfectly acceptable offer for a distressed borrower on a $200,000 deficiency. However, a similar borrower would likely not get a $15,000 offer accepted if the balance owed was $2,000,000.

4. Cost of collection and administrative costs

Assets held in trusts, other businesses, partnerships, or other asset protection vehicles often have higher cost of collection, meaning that the bank would have to spend more time and money litigating in order to have the legal right and access to liquidate those assets. The costs are considered by the bank when reviewing any offer. Likewise, any costs associated with accepting an offer are considered as well. For example, if a defaulted guarantor owns multiple real estate properties, each with a lien on them that would need to be released if an Offer in Compromise is accepted could mean that the bank has to incur thousands of dollars in legal fees releasing those liens. Those fees would be considered before accepting any offer.

These four points touch on how the bank and SBA will review and validate an offer. Each must be addressed and support by the appropriate documentation. If done correctly, the SBA will accept the offer and the guarantor can settle their obligation without having to file for bankruptcy protection.

In the end, determining the appropriate offer amount can be difficult. Dealing with the SBA can be a long process and proposing an inadequate offer can result is precious time wasted and your window of opportunity to settle closing. SBA loans that are not settled in a timely fashion are sent to the US Treasury Offset Program, where settlement becomes much more timely and expensive (for more information see post on Treasury Offset Program). Therefore if you find yourself behind on your SBA payments, contact your bank, be open and honest, seek the help of professional to assist you in calculating an adequate value for an offer in compromise, and present to the bank and the SBA as soon as possible.